International Arbitration Loses Its Grip

Arbitration was supposed to be the solution for international companies seeking to resolve disputes without expensive and drawn-out court battles. But it is starting to look more like the problem.

Once a swift, cost-efficient method of resolving international commercial disputes, the process is now often bogged down in long and costly legal proceedings.

“It now takes longer, costs more and has many more steps in the procedures,” says Joseph R. Profaizer, of counsel to Paul, Hastings, Janofsky & Walker in Washington, D.C. “There is now broader discovery, larger damages requests, longer briefing schedules, much bigger briefs, far greater reliance on experts and their testimony, and more procedural challenges to the arbitration.”

If that sounds suspiciously like U.S.-style litigation, well, that is exactly the problem. Arbitration of international commercial disputes has taken on many of the characteristics of litigation in U.S. courts. And this has upset many companies that rely on arbitration to resolve cross-border business disputes.

Richard NaimarkPhoto by Jordan Hollender

“There’s been an increasing chorus of voices that international arbitration is getting too expensive, mostly because it is taking too long,” says Richard W. Naimark, senior vice president of the American Arbitration Association’s International Center for Dispute Resolution.

A growing number of businesses appear to be turning away from arbitration and resolving their international commercial disputes the old-fashioned way—in the courts.

In a targeted survey of corporate counsel published in 2006 by the School of International Arbitration at Queen Mary, University of London, only 11 percent of in-house counsel said they preferred litigation to settle international disputes. In a follow-up survey conducted two years later, that figure rose to 41 percent—only slightly less than the number who prefer international arbitration.

Many businesses, attorneys and international arbitral organizations lament an Americanization of international arbitration. But they are often themselves to blame.

“It’s the parties who are causing the problem,” says one expert who spoke on the condition that he not be identified. “They’re the ones picking counsel and deciding how the arbitration is to be run. They’re asking the arbitral associations to stop the parties from bringing the problems on themselves.”

Profaizer agrees. “If arbitration is to commit suicide, it will do so of its own choosing, because the parties have chosen to make it more expensive, time-consuming and more like litigation.”

RESOLUTION IN PRIVATE

Arbitration isn’t dead yet. Far from it. Last year, the number of international commercial arbitrations hit a record high. It may be less popular than it used to be, but arbitration remains the preferred method of resolving international commercial disputes.

There are good reasons. For starters, arbitration offers parties the ability to resolve their problems in private. “Unlike the situation in many courts, in a typical commercial arbitration outsiders have no access to the case docket, written submissions or oral hearings. This allows parties to address matters outside the spotlight, which probably helps facilitate the resolution of commercial disputes,” says Mark W. Friedman, a partner in the New York City office of Debevoise & Plimpton.

Edward MullinsPhoto by Matthew Pace

Arbitration also offers parties a neutral forum, where neither side has the “home court” advantage of litigating in its nation’s courts. “You don’t have to learn a new set of rules from some foreign country, so neither side has a procedural advantage. And you don’t have to rely on local counsel you’re unfamiliar with,” says Edward M. Mullins, a partner in the Miami firm of Astigarraga Davis and co-chair of the International Litigation Committee of the ABA Section of Litigation.

Arbitration awards are relatively easy to enforce throughout the world, thanks to the U.N. Convention on the Recognition and Enforcement of Foreign Arbitral Awards. Signed in New York City in 1958 (and often simply called the New York Convention), this treaty requires signatory nations to give effect to valid arbitration agreements. The courts in these nations must decline to hear matters covered by applicable arbitration agreements and must allow the matter to be resolved by arbitration.

Generally, signatory nations also must enforce the resulting arbitral awards. Enforcement can be refused, for instance, if the award covers a subject outside the scope of the arbitration agreement or if enforcement would violate the enforcing nation’s public policy.

The New York Convention has been adhered to by 144 nations, approximately 75 percent of the world’s countries. Only two major trading states, Iraq and Libya, remain outside the treaty.

“It has been an enormously successful international agreement,” Friedman says. “In some places, there is an imperfect record of compliance, but it requires countries to do more for arbitrations than for foreign court judgments. The New York Convention is the engine that makes international arbitration go.”

Arbitration traditionally offered another benefit: It was faster and more cost-efficient than litigation, particularly litigation in the U.S. This is because arbitration had far less discovery and motion practice, significantly shorter hearings, and few (if any) appeals.

“In many court systems, there are one or two levels of appeals, and those appeals can be substantive. Arbitration awards are different. They can be challenged only on very narrow procedural grounds, such as the arbitrator’s abuse of power. So you get to finality quicker,” Friedman says.

Gradually, arbitration’s advantages of speed and thrift have been undermined, perhaps even destroyed. And its decline has been caused, ironically, by what may be its greatest strength.

FLEXIBLE TO A FAULT

When in-house counsel were asked to list the advantages of arbitration, flexibility was named more often than anything else, according to the 2006 Queen Mary study. Attorneys lauded the fact that arbitration gives parties great leeway to structure a dispute-resolution process to fit their individual cases.

For example, if a case turns on expert opinion, the parties may decide to have contending experts take the stand simultaneously and talk to one another. “The active participation of the parties in determining and shaping the procedure inspires confidence in the process,” said the 2006 report, which was financed by PricewaterhouseCoopers.

Over the past few decades, however, parties and their legal counsel have used the flexibility of inter national arbitrations to create proceedings that look more and more like U.S.-style litigation.

One reason for this change: More U.S. attorneys have become involved in international arbitrations. “Cross-border trade has dramatically increased, and that has drawn many U.S. lawyers into the international arena,” says Naimark.

These attorneys are familiar with the procedures of U.S. litigation, and they often want to apply similar procedures in international arbitrations. “The more that U.S.-type litigators become involved in arbitration, the more it looks like U.S.-style litigation,” says Mullins.

For instance, international arbitration generally is set up to allow little discovery. There are few document exchanges and even fewer depositions—in theory. But reality can be quite different. If counsel come from countries other than the U.S., they have grown up with court systems that set stringent limits on discovery, so they are comfortable applying similar tough limits in an arbitration. If both parties are represented by such counsel, the result can be a swift arbitral process that produces an award in less than a year.

The situation often changes when one or both parties are represented by U.S. lawyers. “If U.S. lawyers are involved, they say they must have depositions; they must obtain documents in order to calculate damages,” Mullins says. “I’ve even seen parties using the Federal Rules of Evidence.”

Arbitrators typically are empowered to limit discovery and prevent an arbitration from being bogged down by litigious processes. But arbitrators, too, are influenced by the court procedures they grew up with.

“The seat of the arbitration and the arbitrator’s experience affect what level of discovery he allows. There is a substantial amount of arbitration seated in the U.S., and arbitrators from the U.S. are more likely to allow that type of discovery,” says Christopher K. Larus, a partner in the Minneapolis office of Robins, Kaplan, Miller & Ciresi.

Even when arbitrators want to limit discovery and other litigation procedures, it is often difficult for them to do so. If the parties agree to broad discovery, it can be hard for the arbitrator to refuse. The parties, after all, are supposed to have broad latitude in tailoring their own arbitral process.

WHAT PARTIES WANT

Why would parties want to use U.S.-style litigation procedures, when this will make their arbitrations longer and more expensive? One reason is that many in-house counsel are from the U.S. and are more familiar with them.

But another reason is that international commercial transactions have become larger and more complex. “The amounts in controversy have skyrocketed in the last 15 years,” Profaizer says. “It is now regularly in the hundreds of millions or even billions. What would be considered a large dispute 15 years ago would be considered a small-to-medium-size dispute now.”

Resolving these complex disputes often requires increased fact-finding and greater scrutiny of damages issues, according to Profaizer. This encourages parties to broaden discovery and employ other litigation techniques. And because so much money is at stake, the companies involved are willing to spend extra money on the process, in order to increase their odds.

“People want to make sure their interests are fully protected,” says Profaizer. “They want to tell their own side of the dispute, and that often involves broader fact discovery.”

The growth of electronic record-keeping has also driven up the volume of discovery requests and the consequent costs of international arbitrations. “The proliferation of electronically stored information is a major cost driver in U.S. litigation, and it’s becoming a major cost driver in international arbitration,” Larus says. “As more and more companies have to delve into their electronic records, it’s becoming more and more expensive.”

Arbitral organizations are trying to come up with ways to make e-discovery fast and inexpensive, yet still allow parties to obtain the documents they need. “There has been a change in the way companies keep their business records, and arbitral bodies are still playing catch-up on how to deal with that,” says John Fellas, a partner in the New York City office of Hughes Hubbard & Reed and an arbitrator for both the International Center for Dispute Resolution and the Singapore International Arbitration Center.

Because of these factors, international commercial arbitration increasingly has taken on a distinctly American tone. Arbitrations now often include long and costly negotiations over document production. Counsel frequently depose witnesses. Attorneys make more motions, accompanied by lengthier briefs.

Edna SussmanPhoto by Jordan Hollender

Many arbitration hearings have changed as well. “Lately, more importance has been given to oral testimony and cross-examination,” says Edna Sussman, a full-time arbitrator and mediator in New York City and co-chair of the Arbitration Committee of the ABA Section of Dispute Resolution. This increased emphasis on witness testimony stems largely from American court practice. “In the U.S., much more credence is given to testimony than in civil law countries,” Sussman says.

All these changes have dismayed many businesses based outside the U.S. “If arbitration is to be acceptable to all parties, not just U.S. parties, there has to be some give and take in the proceedings,” warns Glenn P. Hendrix, a partner in the Atlanta firm of Arnall Golden Gregory and chair of the ABA Section of International Law. “The U.S. must recognize that international arbitration is international. The system must accommodate a wide variety of traditions and practices. It can’t just accommodate the American model, or people will stop using it,” says Hendrix, who is also an arbitrator for two organizations, the ICDR and the International Chamber of Commerce.

U.S. firms, too, are upset. “Every client is worried about the time and cost [of dispute resolution], and increasingly clients have been disillusioned with the process because of the increased time and cost it takes to reach an award in international arbitrations,” Profaizer says.

Things have gotten so bad that transnational litigation is widely regarded as faster and cheaper than international arbitration. Even in the 2006 Queen Mary survey, only 12 percent of corporate respondents thought arbitration was less expensive than litigation. Overall, the study found, “expense and time are not perceived as advantages [of arbitration]; indeed, they were the two most commonly cited disadvantages of the process.”

International arbitrations can be surprisingly expensive because the parties have to pay for far more than their legal costs. They must also foot the bill for what is essentially a private adjudication system. They are responsible for such things as arbitrators’ fees, translators’ fees, fees and expenses for any experts appointed by the arbitrators, costs of renting the hearing venue, and any applicable administrative expenses of the arbitral institution. There would be no such costs if the parties went to court. Thus, when an arbitration resembles U.S. litigation, it becomes far more expensive than if the parties had just gone to court.

PUSHBACK

Many of those involved in international arbitrations are now pushing back against the Americanization of the process. Businesses are complaining to arbitral institutions and demanding change. General Elec tric, Exxon Mobil, Nestle, Nokia, Siemens and 45 other large multinationals have formed the Corporate Counsel International Arbitration Group. One of its key goals is to improve international commercial arbitration.

The arbitration bar and arbitral in stitutions are also working on the problem. “There’s a huge push to curb the Americanization of arbitration,” Sussman says. “Everybody is doing something about it. Every body is either revisiting or has revisited its rules.”

The College of Commercial Arbitrators, for instance, is working on new rules for arbitrators, arbitral organizations, in-house counsel and arbitration counsel.

The International Bar Association is revising its rules on the taking of evidence in order to address e-discovery issues. “The IBA draft rules try to strike a balance,” Hendrix says. “They don’t allow wide-open U.S.-style discovery, but they are not saying electronic documents are off-limits.”

The International Institute for Conflict Prevention & Resolution issued its Protocol on Disclosure of Documents and Presentation of Witnesses in Commercial Arbitration in 2009. This protocol recommends ways to limit discovery and present witness testimony more efficiently. It contains options for discovery and presentation of witnesses, ranging from minimal to extensive, and makes it easy for companies to write their desired options into their arbitration agreements.

The ICDR—the most widely used international arbitration organization—issued revised disclosure rules in May 2008. Its Guidelines for Information Exchanges in International Arbitration aim to narrow the scope of discovery. They state, for instance, that “depositions, interrogatories and requests to admit, as developed in American court procedures, are generally not appropriate procedures for obtaining information in international arbitration.” The exchange of electronic documents is allowed, but any requests for such documents “should be narrowly focused and structured to make searching for them as economical as possible.”

The guidelines also address a common problem that arises when a requesting party demands electronic data be provided in a format or media different from that in which the data is stored. “That can be abusive, because it can be very expensive and time-consuming to convert the data,” says Naimark of the ICDR. Thus the guidelines state that “the party in possession of such [electronic] documents may make them available in the form … most convenient and economical for it, unless the tribunal determines … that there is a compelling need for access to the documents in a different form.”

Despite such changes, arbitral organizations continue to uphold the flexibility of arbitration. Their new rules often provide arbitrators with significant discretion to determine the scope of discovery—and this leaves the door open to continued problems. Arbitrators still remain subject to pressure from parties who want to use litigation processes. “If both parties want broad e-discovery, it’s tough for the arbitrator to say no,” notes Fellas.

Some arbitrators are more willing to accede to parties’ wishes than others. “Is anything that the parties want sacrosanct? Some arbitrators say yes. Others take the view that arbitrators have a duty not just to the parties but to arbitration in the abstract—a duty to ensure the process is efficient regardless of the parties’ wishes. Other arbitrators have an in-between view, and I put myself in that camp,” Fellas says. “So if both parties want [broad discovery], I will grant it unless I think it is inefficient. If it is inefficient, I will press them to explain why they need so much, ask them to justify it.”

Arbitrators with U.S. and U.K. backgrounds are particularly likely to give in to parties’ wishes. “The U.S. and U.K. style of case presentation is advocate-run, so arbitrators, and frequently judges, are deferential to the wishes of advocates. The advocates are the experts on the dispute; they should know best what evidence is needed for their case,” Naimark says.

Arbitral organizations are attempting to stiffen arbitrators’ spines. Their new rules often encourage arbitrators to take a tough line when parties stray toward litigation.

The ICDR guidelines, for instance, discourage the use of certain procedures and explicitly affirm that arbitrators “have the authority, the responsibility and, in certain jurisdictions, the mandatory duty to manage arbitration proceedings so as to achieve the goal of providing a simpler, less expensive and more expeditious process.” Naimark notes that “there is a tentativeness on the part of many arbitrators to say no, so the guidelines make clear they can and should do this.”

Arbitral organizations also are teaching arbitrators to forgo the more litigious procedures. “A lot of arbitrator training that goes on right now is focused on maintaining arbitration as a more streamlined and cost-effective way of resolving disputes,” Larus says.

Consider, for instance, requests for electronic documents. “If arbitrators aren’t really familiar with how onerous it can be to produce electronically stored information, the cost of production can easily get out of control. That’s why part of arbitrator training is about how widely stored electronic records are and how to narrowly tailor e-discovery to the facts of each case,” says Larus.

“The ICDR guidelines have only been in effect for about a year. They’ve been moderately effective,” Naimark says. “There’s some reticence on the part of arbitrators, who are cautious about being too draconian [in limiting U.S.-style litigation procedures]. So we are having to increase our message about firmness.”

It’s unclear whether arbitral organizations and the arbitration bar will succeed in rolling back the Americanization of international arbitration. If they fail, arbitration will lose much of its luster. Businesses will continue to bring a large percentage of their disputes to court, instead of to arbitrators. Litigation could even become the main method of resolving international commercial disputes.

“There is a very real question of the acceptability of the arbitration process around the world,” Naimark says. He adds, “Our job is to keep international arbitration viable.”